In a boost to markets, the finance ministry on Tuesday clarified the much-controversial general anti-avoidance agreement rule (GAAR) was not against any particular class of investments, like those routed through participatory notes (P-notes). However, those investing through P-notes from tax havens like Mauritius would have to ensure their transactions are not structured to avoid tax laws, senior officials said.
The Sensex on Tuesday gained 204.58 points to close at 17,257.36. Yesterday, it had recorded a fall of 308.96 points to close at 17,052.78.
The GAAR would mainly affect investors from tax havens that have a double taxation avoidance agreement (DTAA) with India, and do not pay any short-term capital gains in the country. For instance, foreign institutional investments coming through Mauritius and not paying any tax in India or Mauritius may come under the tax net, unless these clear all the tests under GAAR, officials told Business Standard.
| DOSE OF RELIEF Finance minister Pranab Mukherjee indicated the government was ready to bring in changes in the GAAR, based on the recommendations of the parliamentary standing committee on the Direct Taxes Code, if required. The committee, chaired by BJP leader and former finance minister Yashwant Sinha, had recommended that the provisions to deter tax avoidance should not end up penalising tax-payers who have genuine reasons for entering into a bonafide transaction. The two points that stand out in the committee’s recommendations on GAAR and those proposed in the Budget are: |
| BUDGET PROPOSALS |
| * Puts onus on establishing that a particular deal is not aimed at avoiding tax on assessee |
| * Approving panel which is to decide on tax avoidance will comprise officers of rank of commissioner and above. The panel will have a minimum of three members |
| STANDING COMMITTEE |
| * Onus of proving tax avoidance should rest with the department and not with the assessee |
| * Instead of a purely departmental body, the panel should more independent |
N C Hegde, partner, Deloitte, Haskins & Sells, said the moot point was weather fresh investments through foreign institutional investors (FIIs) already registered in Mauritius would come under GAAR from April 1 or P-notes issued by FIIs registered before the next financial year would come under the rule. “If fresh investments issued by new FIIs come under GAAR, it would not be a problem. But if the finance ministry says even P-notes issued by FIIs registered in tax havens before April 1 would come under GAAR, it may be a problem,” he said.
He added unlike pension funds and long-term investors, those coming through P-notes often make short-term investments, which would attract capital gains tax.
The GAAR was proposed in the Budget to bring deals structured to avoid taxes under the tax net.
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Ministry officials say the GAAR would come into effect from the assessment year starting April 1 2013, or financial year 2012-13. However, they did not specify whether fresh investments through FIIs already registered in Mauritius would come under the GAAR or not.
Former Mauritius prime minister Rama Sithenan had said his country awaited clear guidelines on the GAAR. He, however, referred to the Central Board of Direct Taxes circular relating to a tax residency certificate (TRC) issued in 2000. According to the circular, a TRC by Mauritius is reason enough not to tax an FII in India.
Guidelines on the GAAR are expected once the Finance Bill was passed, officials said. It may address a primary concern of the Indian government relating to the taxation of capital gains in India made through the Mauritius route. For long, the government has been trying to renegotiate the treaty with Mauritius, but the island nation was not willing to make such changes. The GAAR is expected to override any tax treaty as well.
Hegde said if the GAAR came into effect, India would not have to amend its DTAA with Mauritius.
One of the criteria that would lead to taxation under the GAAR is that it involves round tripping of finances. Investments routed through Mauritius by third-country investors are often criticised for round tripping, as investors from third countries also route investments through Mauritius to avail of the DTAA.
In February, investments through P-notes stood at 16.4 per cent of the Rs 11.15-lakh crore assets under the custody of FIIs in the stock market. A majority of these P-notes positions are routed via Mauritius. Roughly, 43 per cent of the country’s foreign direct investment is routed through the island nation.